The Financial Conduct Authority (FCA) found that some of the largest brokers that serve small businesses did not have proper processes in place to manage the "inherent conflicts" that arise as part of their work. Reporting on its review of insurance intermediaries and conflicts of interest, the regulator said that "active management" of the potential for conflict arising as a result of firms' different functions and the way they were remunerated was needed.

Insurance law expert Alexis Roberts of Pinsent Masons, the law firm behind Out-Law.com, said that the findings of the report indicated that the regulator was looking for a "significant change" to the way in which firms managed conflicts.

"The focus of the report is very much on intermediaries, where the principal obligation to manage conflicts of interest lies, but there are a number of points that come out for insurers too," he said. "For example, there are a number of criticisms made in respect of 'preferred insurer' arrangements; and remuneration packages where all forms of remuneration including work transfer payments are bunched together as one commercial package are identified as likely to involve potential conflicts."

"The FCA's emphasis on a lack of small business customer understanding of the role of brokers, and the regulator's view that too much emphasis has been placed on disclosure as a means of managing conflicts, suggests that the FCA requires a much more proactive approach to managing the risk of conflicts," he said.

The regulator said that it would use its findings to further educate small business customers, and feed into planned future thematic work on commercial claims. It is planning a programme of "supervisory engagement" with the seven large firms whose practices were reviewed as part of its work, which it did not name in the report.

In its review, the FCA found an increased risk of conflicting interests where brokers fulfilling multiple roles and acting as agent for both consumer and insurer in the same transaction. However, in some cases firms' control frameworks and management information had not developed to reflect these changes. Some firms relied on disclosure alone to address conflicts of interest as they arose, rather than having effective control frameworks in place, and in some cases this disclosure was "very generic" and unlikely to meet customers' needs, the FCA said.

The FCA said that in some cases a broker's work as the agent of an insurer could account for a substantial proportion of its revenue. In some cases, firms that described themselves as 'insurance brokers' were making as little as 30% of their total revenue from traditional broking activities, according to the report.

Consumer research carried out by the regulator alongside its main review found that awareness of the different roles that brokers can perform was poor amongst small businesses. It found that 68% of customers believed that a broker was acting as their agent when selecting and placing insurance; while 86% expected their broker to search for more than one quote, a figure that was not consistent with the practices the regulator found at large firms.

FCA director of supervision Clive Adamson said that the regulator was concerned about the risks of small business customers paying more for core insurance products than they needed to or purchasing add-on products that they did not necessarily need.

"Small businesses are experts in their particular field but are often not experienced in buying insurance," he said. "That is why they need to be able to trust their insurance intermediary to act in their best interests. If there are conflicts of interest that are not identified or properly managed, that trust is put at risk."